The sky fell on Madison Square Garden (Nasdaq:MSG) and fans of the New York Knicks Tuesday night as the club announced it wouldn't match the Houston Rockets three-year, $25 million contract. Linsanity is on its way to the Lone Star State and Asian-Americans are hopping mad about the snub by the team. To the die-hard fans, I suggest you find a new player on the Knicks to support. To the rest of you who weren't really Knick fans, but Lin fans, you haven't lost a thing. For current MSG shareholders, this will most certainly amount to nothing more than a blip on the radar. If anything, it allows the stock to cool down some. It's been on a tear for the better part of a year now. Smart investors should be buying on any noticeable weakness. Here's why.
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More to the Story
Fans will be fans. I live in Toronto where hockey is considered a religious experience. The Maple Leafs haven't won a Stanley Cup since 1967 and yet a day doesn't go by in the summer months without a news story or two about our hapless team. Toronto lives and dies Maple Leaf blue. And yet the owners of the team, Maple Leaf Sports and Entertainment (MLSE), are a financial success like no other. Last December, the Ontario Teachers' Pension Plan sold its 75% controlling stake in MLSE to a 50/50 partnership between Rogers Communications (NYSE:RCI) and BCE (NYSE:BCE) for $1.3 billion, delivering the teachers of Ontario an annualized return of 12.3% over 17 years, not including dividends. MSG is no different. It can run its business haphazardly paying Lin $14.8 million in the final year of his three-year contract and face a significant tax for going over the salary cap, or it can find someone cheaper to play the same amount of minutes. As Laura Martin, analyst at Needham & Co. says, "He's so expensive that the revenue that they would lose would be half of the cost of keeping him." Financially, this was a no-brainer.
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There are good and bad points for a sports team being owned by a large corporation. On the plus side, being owned by MSG means it has shareholders to consider and profits to be made. Season ticket holders of both the Knicks and Rangers are acutely aware that the Garden itself is half-way through a $1 billion transformation that will completely modernize the famous arena. If both the teams and the real estate were separately owned, it's unlikely that a privately funded deal would be possible. MSG is saving the taxpayers of New York an unbelievably contentious argument, not to mention restoring one of the city's most prominent landmarks and creating a significant number of badly needed construction jobs.
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Regardless of how much MSG ends up hiking season tickets to pay for this transformation, I can guarantee you'll enjoy a game in 2014 far more than you did in 2010. In addition, because MSG operates so many successful entertainment properties, it has the cash flow necessary to keep the Knicks and Rangers competitive every season. In Toronto, I can assure you the lack of success isn't because the owners didn't spend money; on the contrary, they've spent gobs of it on second-rate players. I'm not saying Jeremy Lin is a terrible player because he isn't but, sometimes you have to be careful what you wish for.
The downside of being owned by a large corporation is you lose the passion that an individual owner brings to the team. Jerry Jones, Mark Cuban, George Steinbrenner and Mike Ilitch come to mind. All four of those men built successful sports empires with passion and commitment. You'll never get that from a conglomerate and as such, the Jeremy Lin's of the world often have to go elsewhere to continue their ascension. It's a fact of life.
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The Bottom Line
Analyst David Joyce of Miller Tabsk & Co. calculates that Jeremy Lin's financial contribution to Madison Square Garden Company was $12 million annually or 1% of its overall revenue. Now consider that MSG Entertainment had an adjusted operating cash flow loss of $25.5 million in fiscal 2011 on $304 million in revenue. Were it to deliver a profit rather than a loss like it did in 2008, you're talking about a $36 million turnaround. Investors shouldn't fall for the head fake. Jeremy Lin's presence will be missed no doubt but from an overall financial perspective, MSG has things it can fix that will more directly affect the bottom line, which for investors is the only game in town.
At the time of writing, Will Ashworth did not own shares in any of the companies mentioned in this article.